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The Versatile Tool for Planning Ahead
A trust is a legal arrangement by which an individual passes ownership of property to a trustee for the benefit of named beneficiaries, individual or charitable.
Trusts are as old as the Rome of Caesar Augustus, when wives and children were not considered citizens and could not legally own property. The head of the family would ask a citizen friend to hold his property for him. Such “fiducia,” or trust, became the root of the modern-day term “fiduciary.”

Trusts are used today to pass property to heirs or charitable organizations, manage property, avoid probate and save taxes. There seems to be a specific trust to fulfill almost any plan for asset management or distribution so long as it does not conflict with state law or public policy.

Trusts created during life are private. They do not become a matter of public record as do probated wills, and their terms are more difficult to challenge than the terms of a will. Properly drawn, your trust can also protect your beneficiaries from the attacks of creditors.
Revocable trusts, often called living trusts, have the advantage of flexibility, change, even dissolution, but they do not save on taxes. They become irrevocable, however, after the death of the grantor, then only the provisions of the trust instrument rule. There can be disappointments, but no changes.

Irrevocable trusts are more rigid and usually cannot be changed, but they offer favorable tax benefits. Think of the trust as a contract (more than just a Roman “fiducia”) between you and the trustee.

Because trusts are specifically designed, carefully thought-out, less subject to challenge, less expensive and more quickly distributed than probated property, they may best serve your planning for tomorrow.

Three Trusts Worth a Closer Look

  • Living trust. A living trust allows you to provide for yourself and your family before and after your death. They are fully revocable, so you can change or terminate them at any time.
  • Testamentary trust. Created in your will, a testamentary trust allows you to provide for loved ones after you are gone. The trust can provide professional investment management and secure the financial future of your loved ones.
  • Charitable remainder trust. You can set a charitable remainder trust to pay an income to you and your loved ones for life or a set term of years; after which, the remainder will go to the American Red Cross of Central Maryland.

A Charitable Lead Trust Offers Good News for Bad Markets

As it turns out, there is a way to take control of a bad-market situation and use it to your advantage. Recent declines in equity portfolio values actually may present some excellent opportunities for tactical estate and gift planning.

Consider the charitable lead trust (CLT). A donor transfers cash or assets, which are appreciating in value, into a trust with the intention of supporting the American Red Cross and/or other charitable organizations and then returning the asset to the family. It’s a tool that helps preserve family wealth and control social capital.

The lead trust works well in a low-interest environment because the value of the remainder interest to heirs for gift tax purposes is decreased, allowing you to pass more to them for the same cost. The donor has a choice about using either a fixed dollar contribution (CLAT) or a fixed percentage contribution (CLUT) in order to meet the requirements for a qualified lead trust.

Is there any risk to creating a charitable lead annuity trust? If the CLT investments earn less than the government’s applicable federal midterm rate (the interest rate used by the IRS to value the remainder interest in a gift), then the trust will produce a remainder significantly less than what was originally contributed. If the trust manager takes a long-term view and maintains a tax-efficiently managed portfolio, though, the subsequent growth passes tax-free to heirs.

Example: George Smith (55 years old, married with 3 children) had one of his portfolios worth $2.5 million at the peak of the market; in the past year it has declined more than 65 percent and is worth $850,000. George expects his stock to recover, but he wants to solve estate planning problems too. Following his advisor’s recommendation, George plans to create a 20-year nongrantor charitable lead annuity trust with his portfolio. This CLAT stipulates that $60,350 (7.1 percent of the initial fair market value) will go to his favorite charitable organization each year for 20 years. After that, the portfolio and all of its growth will pass to his family at zero cost in gift and estate taxes.

The family will still receive the assets they were to inherit. And after 20 years in the trust, the appreciated portfolio should be worth nearly $1 million if the underlying funds experience just average market performance (in this case, 7.5 percent growth). This will save the family unnecessary estate taxes and still provide for George’s philanthropic interests in a very tax-efficient manner.

Currently, with the government’s low interest rate used in calculating the gift value and the stock market decline, a charitable lead annuity trust is an excellent planning tool. If these trusts are created far enough ahead of time or with a high enough payout, inheritances may pass with little or no tax cost. And since the assets placed in the trust are most likely in a temporary decline because of market fluctuations or the trustee will sell and reinvest the assets to make a stronger portfolio, the family inherits a solid portfolio with the capacity to grow significantly. Contact your advisor or Marlo Saindon at the Red Cross of Central Maryland for more information.

Detail of George’s Charitable Lead Trust Growth and Payout Over 20 Years

Year Beginning
Principal
7.5%
Growth
Payment
To Charity
Remainder
To Heirs
1 $850,000 $63,750 $60,350 $853,400
5 $865,208 $64,891 $60,350 $869,749
10 $891,581 $66,869 $60,350 $898,100
15 $929,444 $69,708 $60,350 $938,802
20 $983,801 $73,785 $60,350 $997,236
Total   $1,354,236 $1,207,000 $997,236

For more information about this and other charitable gift planning options, contact Marlo Saindon at 410-624-2034 or email her at [email protected]


By Vaughn Henry
© The Stelter Company
The information in this publication is not intended as legal advice. For legal advice, please consult an attorney. Figures cited in examples are based on current rates at the time of printing and are subject to change.



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